Back in February I tipped engineering company Fenner
(LSE: FENR) for its long-term potential. Since then, the shares have not done well – they are down 19%. This is clearly disappointing. But today’s trading statement suggests that the long-term investment rationale is still intact.
Why have the shares gone down?
Investors have started to fret about global economic growth. The fear is that formerly fast-growing economies such as China and India are running into trouble, and so won’t buy ever-increasing amounts of raw materials such as coal, iron ore and copper. There’s also concern about what cheap US shale gas will do to coal demand in North America. All of this could mean that mining companies might buy fewer of Fenner’s conveyor belts.
These are legitimate concerns. And you only need look at the share prices of both Fenner and of industrial pump company Weir in recent months to see that the market believes these companies may face tougher times ahead. But sometimes the market can be too emotional: it focuses too widely on broader economic issues at the expense of specific company fundamentals.
So what’s going on?
Clearly there are some problems. Fenner’s conveyor belting business has seen its order rates slow down in the US due to mild weather and cheap gas prices. However, across the whole business its plants remain very busy and continue to make good profit margins. The business is so busy that Fenner is adding extra capacity in Holland and Australia, which should be ready next year.
The conveyor belts business needs high levels of mining production in commodities such as coal and iron ore. But unlike mining companies, the price of said commodities is largely irrelevant to its profitability.
The rates of growth in demand may well slow. But to be really bearish on demand for Fenner’s conveyor belts, you have to believe that the absolute amount of coal and iron ore demanded by countries such as China and India will start to fall. I’m not saying it can’t, but very few people are making those bets now.
Elsewhere, Fenner’s Advanced Engineered Products (AEP) division, which sells problem-solving products to businesses in fields such as oil & gas and medical markets, continues to do well.
The shares are still a buy
There are other things to like about Fenner. It makes things that its customers want and that its rivals find very hard to copy. Strong demand for its products is leading to growing profits and rising returns on investment – the hallmarks of an excellent business.
This is not a company that chases the latest quarterly earnings-per-share figure either. It made big investment outlays during the dark days of 2008-09 when others were cutting back. These investments are now paying off.
The culture of the company is focused firmly on the long-term. The growth of the AEP business, and its exposure to the medical devices business, has made Fenner a lot more resilient to the ups and downs of the economy than it used to be.
Finally, we get to the price you have to pay. When I tipped Fenner in February, the shares were at 455p and traded on 13.9 times expected August 2012 earnings – fair, but not cheap. Now City analysts expect August 2012 profits to be 10% higher than they did then, yet the shares are 19% cheaper.
So at 369p, you can pick up the shares for 10.2 times earnings today. The dividend yield of 2.8% is not stellar, but it’s covered 3.5 times by profits, which gives the scope for decent growth in payouts. So as far as I’m concerned, Fenner remains a good long-term investment.